Asset Protection with Limited Liability Companies
The Limited Liability Company (LLC) has become a powerful tool for accomplishing many asset protection goals. The LLC is the most versatile and convenient strategy for owning rental property, insulating Dangerous Assets, operating a business, and achieving an excellent level of financial privacy.
Limiting Personal Liability
The LLC is recognized in all fifty states with well-established case law and statutes. The purpose of the LLC legislation is to allow individuals to create a legal entity that avoids many of the tax and business problems inherent in the corporate and partnership structure.
The intent of the law is to allow individuals to conduct their financial and business affairs in an efficient and convenient manner without the restrictions, formalities, and liabilities associated with those other entities.
- The LLC provides the protection from liability of a corporation without the formalities of corporate minutes, bylaws, directors, and shareholders.
LLC versus Corporation
In contrast to corporate law, which allows shareholders and officers to be individually sued if the corporate formalities are not followed, the LLC law specifically bars a lawsuit against a member solely because of a failure to follow these formalities.
That is an important distinction which you should understand. As we discussed, the principle shareholders and officers of a corporation are routinely named as defendants in a lawsuit against the company—forcing them to incur attorney’s fees to defend themselves and rendering the corporate shield meaningless from a practical standpoint.
A primary goal of the LLC legislation was to change this result by clearly stating that the
- Members and managers of the LLC could not be named in a lawsuit against the company.
The new law was drawn specifically to provide a vehicle that would protect the owners from liability associated with the business—what the corporation was intended for but no longer accomplished in the modern litigation-prone era.
Piercing the LLC Veil
A number of exceptions to this general rule of limited liability are contained in the LLC legislation and in subsequent case law.
California Corporations Code Section 171011 (b) allows for a piercing of the corporate veil under a theory of “alter ego” or under any other theory that could be used against a corporate entity (other than a failure to maintain corporate formalities).
Flexible Tax Treatment
Besides this modestly enhanced liability protection, the LLC is also convenient to maintain. The owners are permitted to adopt flexible rules regarding the administration and operation of the business. For tax purposes, it is treated like a partnership. That means the LLC itself pays no income tax. All of the income and deductions flow through directly to the members and is reported on their personal tax returns. If the LLC has only a single member, the owner can elect to treat it for income tax purposes as a “disregarded entity.” No federal tax return is required, and the income and expenses are reported as a sole proprietorship on the personal return.
Not Available for Professionals
The bad news, for physicians and some other professionals, is that state law generally does not allow licensed professionals to operate their practice as an LLC. The liability shield available to business owners has not been extended to doctors —due to opposition primarily from the trial lawyers. Although the LLC may be useful as a tool in protecting business assets from lawsuits, it will not insulate the individual from the liability associated with a professional practice.